1.7: Financial System and Consumer Protection

A Stable Financial System and Consumer Protection

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The nation’s financial services industry has helped provide capital for U.S. companies and returns for the savings of individual investors and savers. However, since 2008, the financial markets have been coping with the vast and far-reaching fallout from the crisis that has resulted in the failure, sale, or government control of some of the largest and most significant U.S. financial institutions. Moreover, unprecedented federal help had to be provided with the passage of the Emergency Economic Stabilization Act of 2008 and creation of the $700 billion Troubled Asset Relief Program (TARP) in an attempt to stabilize the financial system and restore the functioning of credit markets. GAO is performing ongoing monitoring and evaluation to determine the extent to which actions by Treasury, the Federal Reserve, the Federal Deposit Insurance Corporation (FDIC), and others have achieved the intended goals of reducing foreclosures, restoring stability in the credit and financial markets, and protecting taxpayers. While achieving the intended goals is important, it will be vital for the government to have exit strategies from various assistance programs that will not further disrupt the stability of the financial markets. Regulatory system: The crisis also dramatized the ineffectiveness of the regulatory system in overseeing the increasing complexity of U.S. markets, institutions, and products that have rapidly evolved over the past 30 years and are expected to continue to do so. The outdated U.S. financial regulatory system was designated as a major problem in GAO’s 2009 high-risk program. The four key developments and associated challenges for government—such as the emergence of large, complex globally active conglomerates and increasingly global financial markets—are summarized in figure 29. The regulatory system, developed piecemeal over the past 150 years, with some parts of the system created in response to previous financial crises, lacks the comprehensive framework needed to regulate today’s highly complex, everchanging global marketplace. The result has been myriad proposals to create new regulatory bodies and new rules to govern financial services firms and activities. Because the financial sector is vital to our economic well-being and billions of taxpayer dollars have been committed to address the financial crisis, the efforts being undertaken in the next few years to ensure that this sector is overseen by an effective and efficient regulatory system is a key challenge to our nation. In a January 2009 report, we provided a framework for crafting and assessing proposals on modernizing the outdated U.S. financial regulatory system to assist the Congress with its financial regulatory reform effort. The framework consists of nine characteristics that should be reflected in any new regulatory system. Existing and newly created or combined regulators that may emerge as a result of these proposals will also face challenges in organizing themselves effectively. Meanwhile, it is equally important for existing regulators to be vigilant in overseeing troubled financial markets, such as the commercial real estate market, and corresponding risk management practices at financial institutions because growing defaults in commercial mortgages or commercial mortgage-backed securities could pose additional risk to the recovering financial system. Financial products and services: Dramatic transformations in the financial services sector have generated both benefits and costs for consumers. While consumers enjoy more choices in financial products and services and in some cases lower costs, they also face more complex products with risks that are difficult to understand. Numerous studies published in recent years have shown that most adults have not mastered basic economic concepts, such as the risks associated with investment choices. Poor financial literacy can reduce consumers’ economic well-being and security. Moreover, GAO and federal regulators have previously noted the lack of adequate disclosure requirements for financial services and products. For example, available disclosures for subprime and other risky mortgage products did not provide borrowers with easily comprehensible information on the risks associated with such mortgages. Ensuring that regulators adequately protect consumers from inadequate disclosures and predatory products will continue to be important and challenging. Consumer products: Similar to financial products, consumer products—such as toys and household appliances—are also becoming more technically complex and sophisticated, and they increasingly are not “from” any one place but, rather, consist of parts and components from any number of countries: From 1998 to 2007, the value of consumer „„products imported into the United States increased about 101 percent, with products from China (which includes Hong Kong) nearly quadrupling over that same period to constitute about 42 percent of all imported consumer goods. In addition to the growing value of imports, the number and variety of consumer products have been increasing. The growing volume of consumer „„products imported into the United States has strained the resources of the Consumer Product Safety Commission (CPSC) and is challenging the agency to find new ways to ensure the safety of these products. In fiscal year 2007, CPSC announced 473 recalls, the most in 10 years. Some 389 of these recalls (or about 82 percent) involved imported products. The number of product recalls in fiscal year 2008 was even higher. These record numbers of recalls have raised the issue of whether CPSC can ensure the safety of products that are increasingly manufactured overseas. The Consumer Product Safety Improvement Act (CPSIA) was enacted on August 14, 2008.31 CPSIA mandated that GAO review CPSC’s authorities to protect consumers. GAO’s work in the next 3 to 5 years can help the Congress determine how to best update the financial regulatory structure to ensure that the financial system is safe and sound in the 21st century and that regulators provide effective consumer protections in financial and manufactured products. To support efforts by the Congress and the federal government to address these issues, GAO has established the following performance goals and key efforts:

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